Internal Revenue Service
Revenue Ruling

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 Rev. Rul. 73-74

1973-1 C.B. 380

Sec. 1481

IRS Headnote

Manner of determining the tax credit for an electing small business corporation when certain prior year excessive profits are eliminated because of a Federal contract renegotiation.

Full Text

Rev. Rul. 73-74

Advice has been requested as to the manner in which an electing small business corporation determines the amount of its tax credit under section 1481 of the Internal Revenue Code of 1954.

A Regional Renegotiation Board created under a Federal renegotiation act made a determination to eliminate by unilateral order certain excessive profits of the electing small business corporation. The shareholders of the corporation (that have remained the same for all taxable years) included in their prior income tax returns their respective share of these excessive profits and paid Federal income tax attributable thereto.

Section 1481(a) of the Code provides, in part, that in the case of a contract with the United States or any agency thereof, if a "renegotiation" (as defined therein) is made in respect to such contract and an amount of excessive profits received or accrued under the contract for a taxable year is eliminated and the taxpayer is required to pay or repay to the United States or an agency thereof, the amount of excessive profits eliminated, the part of the contract or subcontract price which was received or was accrued for the prior taxable year shall be reduced by the amount of excessive profits eliminated. Section 1481(b) of the Code provides, in part, that there shall be credited against the amount of excessive profits eliminated the amount by which the tax for the prior taxable year is decreased by reason of the elimination of the prior year's excessive profits. Subchapter S (section 1371-1379 of the Code) permits a small business corporation (by unanimous consent of its shareholders) to elect not to be taxed at the corporate level. Under the election such corporation was not liable for Federal income tax and its income was included in the gross income of the shareholders whether distributed or not.

Accordingly, since the electing small business corporation had no Federal income tax liability, a recomputation of the Federal income tax liabilities of all of its shareholders is necessary to determine the amount of any credit against the excessive profits allowable to the corporation under section 1481(b) of the Code. The recomputation is made by eliminating the excessive profits from the income reported on the returns filed by each of the shareholders and determining the tax liability that would have been payable by each of the shareholders had the excessive profits been excluded from the taxable income reported in the Federal income tax returns filed. The excess of the amount of Federal income tax previously determined on the basis of the returns filed by each shareholder and the amount of such liability determined that results solely from excluding the excessive profits eliminated represents the decrease in Federal income tax liability that is allowable as a credit against the amount of the excessive profits. The credit allowable to the corporation would be the aggregate amount of the decrease in Federal income tax liabilities of the shareholders for their taxable year with which or within which the corporation's taxable year ended, resulting solely from the elimination of the excessive profits of the electing small business corporation.

However, the credit against the amount of the excessive profits of the corporation under section 1481(b) of the Code is allowable only if all the shareholders in the corporation during its taxable year for which the credit is allowable execute agreements consenting to the credit and waving all rights to claim a refund of the taxes so allowed as a credit for both the year for which the income was previously included and the year for which it was repaid.